AFAs:  A Budget with Consequences

by | Sep 9, 2014

AFAs A Budget with Consequences

Over the span of a decade, one company says it more than tripled its revenue while cutting its legal spend by a little more than 30%, while only adding four more in-house attorneys over four years.

That seems to be a prime example of a corporate legal department doing more with less – and AFAs seem to be a key part of the formula.   As a percentage of spend, the focus on AFAs grew from just 20% in 2002 to 95% in 2013, according to Forbes contributor David J. Parnell.

“In 2002, FMC Technologies had $1.8B in total sales, which were protected and facilitated by an 8 lawyer team, with $14.3M in legal spend ($2.8M internal and $11.5M external), of which, 20% was spent on alternative fee arrangements (AFAs), and held a 2.8 average firm evaluation.

In 2013, FMC Technologies had $7.1B in total sales, which were protected and facilitated by a marginally-larger, 12 lawyer team, but with only $9.5M in legal spend ($3.1M internal and $6.4M external), of which, 95% was spent on AFAs, and held a 3.3 average firm evaluation with a 7% average bonus going to the firms.”

That was the beginning of an interview with Jeffrey Carr, the former senior vice president and general counsel of FMC Technologies, Inc.  The Forbes article was published in early July 2014 and a short while later, trade publication Corporate Counsel reported Mr. Carr had announced his retirement.

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AFAs as a Shared Risk

Several paragraphs below that introduction, Mr. Carr offers his views on AFAs – and frames it in the context of discounts – which he says are not AFAs.  A discount he says is merely a reduction in cost per hour, but doesn’t change how those hours are allocated to perform work.  Because billable hours, regardless of the rate, are not linked to outcomes, he states discounts may actually drive up the quantity of hours billed which offsets the savings from the discounts.

What does drive change is a structural difference – that an alternative fee “is a budget with consequences.”  AFAs are a shared risk as Mr. Carr defines them, and the consequences have an impact on both sides of the table:

“The firm bears the risk that the matter will take more effort than expected, and the customer takes the risk that the matter can be completed with less resources.”

But what about value?

“We define value as achieving the objective effectively and efficiently. And, so, when we use fixed fee arrangements, we will always use a hold-back approach to help ensure the delivery of value. So if the engagement is going to cost $100K, we hold back 20% and we pay the firm 80%. We then give a report card with an assessment of 6 different factors. Based on that report card, the firm gets between 0-200% of the amount withheld.”

Photo Credit:  Flickr; (CC by 2.0)

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